China's CNOOC scoped Nexen, partnered, then pounced

<p>A woman walks into the Nexen building in downtown Calgary, Alberta, July 23, 2012. REUTERS/Todd Korol</p>

(Reuters) - When Canada’s Nexen Inc fired its CEO in January, an oil giant on the other side of the world sprang into action.

Nexen NXY.TO had been on the wish list of Chinese state oil company CNOOC Ltd (0883.HK) for five years. The removal of CEO Marvin Romanow was just the opening the Chinese needed to make their move, according to sources familiar with the situation.

By the Chinese New Year later that month, CNOOC had hired BMO Capital Markets (BMO.TO) and Citigroup Inc (C.N) as financial advisers, according to these sources. That kicked off negotiations culminating on Monday with a deal to buy Nexen for $15.1 billion (9.7 billion pounds), the biggest foreign acquisition ever by a Chinese company.

The agreement is a triumph for China’s third-largest oil company, which had to abandon its $18.5 billion bid for California-based Unocal in 2005 because of bitter opposition on sovereignty grounds from U.S. lawmakers, and shows how far the Chinese have come as dealmakers on the global stage.

It also feeds China’s demand for resources to sustain an economy that despite six quarters of deceleration still grew at 7.6 percent in the second quarter, and will give it a platform from which to grow further in Canada’s energy sector.

Interviews with people familiar with the Nexen deal reveal CNOOC heeded lessons from the Unocal debacle. It also closely studied Australian miner BHP Billiton Ltd’s (BHP.AX) failed $39 billion bid to buy fertilizer maker Potash Corp (POT.TO) in 2010 - a deal killed by the Canadian government - as it methodically went about laying the groundwork for the Nexen deal.

Among its tactics was the establishment of a joint venture so it could become familiar with the target and its assets, as well as the way of doing business in North America. Importantly, it quickly started building relationships with governments in the countries where Nexen operates, including Canada, the United States and Britain, the sources said.

CNOOC, which offered a 61 percent premium to Nexen’s Friday stock price, already has interests in Canada - including oil sands operations in Alberta, and shale gas in British Columbia - as well as extensive exploration and production holdings in the North Sea, Gulf of Mexico and offshore West Africa. Nexen, Canada’s sixth-largest independent oil explorer and producer, also operates in the Gulf of Mexico, Colombia, the North Sea, Yemen and offshore West Africa.

A big step for China is that the Nexen offer is for the entire company. In the wake of Unocal, many Chinese buyers have chosen to buy stakes in overseas companies rather than attempt full takeovers.

“It’s partly the valuation, partly an evolution of the Chinese mindset. You couldn’t do this deal a year after Unocal,” one of the sources familiar with the deal said. “They had to have made the smaller steps in the meantime that made everyone comfortable that they knew how to behave responsibly, operate effectively, treat employees well.”

SMALL STEP

Nexen spokesman Pierre Alvarez declined to comment on how the deal came together, saying the company will provide details in its information circular to be sent to shareholders in about a month. A CNOOC media official said Nexen had been a partner of the company for years, declining to comment further on the deal.

Despite its size, the deal may prove to be only a small step in China’s ambition to acquire resources and technology. In the West, and particularly in the United States, there is still suspicion about sales of major assets to Chinese companies because of Beijing’s controlling influence in the nation’s corporate sector and anti-China sentiment among some lawmakers.

Although some experts and people familiar with the transaction expect the Canadian government to approve the deal, that could change if popular sentiment suddenly turned against it.

Pulling off a similar deal in the United States is also likely to remain a pipedream for Chinese buyers.

“My guess is that they continue to be wary of investments in the United States and concerned that they might either be blocked or subject to conditions that may be complicated for them,” said William Reinsch, president of the National Foreign Trade Council, a U.S. business association focused on international trade and investment issues. “I wouldn’t take it as a given that (Canada) would simply say yes and move on.”

CAREFUL PREPARATION

CNOOC stepped up its pursuit of Nexen after Canadian Prime Minister Stephen Harper visited China in February and said he wanted to sell more oil to Chinese and Asian markets. Canada has also stressed the need for more foreign investment to help develop its oil sands.

“CNOOC would have read very real signals into that... It would have been very strange for political leaders from countries at the most senior level to come and ask for investment and then say ‘No’,” said a person familiar with how the deal was forged.

In the wake of Harper’s comments, the Chinese firm sought meetings with senior officials in the federal government and the government of Alberta to gauge the appetite for a possible approach.

CNOOC, realizing a hostile bid of this size would be virtually impossible to pull off after BHP’s failed approach for Potash, felt a crucial advantage was that its approach had the full support of the Nexen board, the sources said.

CNOOC hired Hill and Knowlton for lobbying in Canada and the United States, and Bell Pottinger in Britain, according to one source. New York law firm Davis Polk provided legal counsel. Hill and Knowlton declined to comment. The firm filed its lobbying disclosure forms in Washington on Monday but listed the effective date of registration as May 14.

A Bell Pottinger official in the United States did not have an immediate comment.

“I don’t think the problem is whether CNOOC can complete the deal,” said a China-based source familiar with the matter. “The key is whether CNOOC can successfully consolidate and manage the new company, whether it can reach its targets over the next five years.”

LOBBYING EFFORTS

Canada’s official register of lobbyists shows that Michael Coates of Hill and Knowlton visited the top officials at the ministries of industry, trade and natural resources in late March in Ottawa.

Accompanying Coates was CNOOC Vice President Fang Zhi, who is also general manager of CNOOC International Ltd. Zhi told the officials that CNOOC thought Canada was an attractive place to invest, one source said.

Andrew MacDougall, chief spokesman for Harper, said he was unaware of who Fang might have met in Ottawa and declined to comment on any aspect of the takeover bid.

Fang, who came away reassured by his discussions, also visited Alberta for talks with local government officials, the source said. His presence there drew little attention, since CNOOC already has properties in the province.

Courtesy calls on behalf of CNOOC and Nexen were made to the federal and Alberta governments on Sunday, the day before the deal was announced.

The final decision on whether to approve the CNOOC bid lies with Canadian Industry Minister Christian Paradis, whose chief spokeswoman declined to comment. Paradis would make his decision based on the Investment Canada Act.

Sources said early conversations with policymakers led CNOOC to propose key concessions, such as making Calgary the head office of its North and Central American operations and a plan to list on the Toronto Stock Exchange.

CNOOC has also promised to retain Nexen employees. That may help to allay fears that might arise, especially given some Chinese companies have been criticized for having poor relations with their workforces in places like Africa and Latin America.

One source said it helped that Fang and CNOOC Chief Executive Li Fanrong both spoke good English and appear to have a good grasp of Western business ways. In addition to hands-on top executives, CNOOC has a large and experienced M&A team.

UNIQUE TRANSACTION

In Nexen, CNOOC also picked a deal that will be more likely to get support than if it had sought to acquire some other Canadian companies. Most of Nexen’s assets lie outside Canada, making it less likely that it would be seen as a national champion falling into Chinese hands.

CNOOC had already formed a joint venture that helped it evaluate Nexen. In July 2011, it bought Opti Canada, which was Nexen’s 35 percent partner in Long Lake, a C$6.1 billion (3.8 billion pounds) steam-driven oil sands project in Northern Alberta.

The project, which started more than three years ago, is only at about half its 72,000 bpd design capacity and has had problems extracting enough oil from its early wells to fill the processing plant. But the project accounts for a large chunk of Nexen’s value, and CNOOC believed that it was of higher quality than the market thought, one source said.

“It was that experience that enabled them to conclude this would actually be a good fit,” another source said. “They’ve been taking their involvement in Canada a step at a time and you’d want the next step to be determined by what you’d experienced in the previous step.”

With only small operations in the United States, the company is not likely to meet much opposition to the deal in Washington, where there is some sensitivity to Chinese investment in Canadian energy assets because Canada is a major supplier of oil to the United States.

One U.S. lawmaker, Senator John Hoeven, said on Tuesday he believes the CNOOC-Nexen deal is a “direct result” of President Barack Obama’s January decision to delay approval of the Keystone XL pipeline, designed to bring oil from Canada’s oil sands to Texas refineries. Soon after that delay was announced, Harper was in Beijing and talking about doing oil deals with China.